The Virtue of Saving

The objective of this paper is to argue that Australia needs to improve its saving performance. This is not a popular view. Many commentators, including some professional economists, have raised doubts about the need for saving. They see no reason why governments should run budget surpluses or why saving through superannuation should be encouraged. One reason for this position is the naive Keynesian view that insofar as saving reduces aggregate demand, it reduces the rate of economic growth and increases the unemployment rate. This idea is often described as “the paradox of thrift”—saving is personally desirable but counter- productive for the macro economy. Keynes actually incorporated this “paradox” in his analysis, but recognised that earlier writers had cited it. It was popularised in a series of editions of a textbook by Paul A. Samuelson.

The paradox of thrift is often explained in terms of a more general concept, the fallacy of composition. The latter argues that the desirable characteristics of an aggregate cannot be deduced from the desirable characteristics of its constituent parts. In this application, it is argued that what is good for an individual household (for example, saving) is not necessarily good for the whole economy. One interpretation of this argument is that it might be desirable for a government to run continuous deficits although an individual household cannot do this. It is sometimes argued that in a closed economy a budget deficit must be offset by private saving. This assumes that the budget deficit does not reduce business investment. More importantly, the current environment is one of open economies and this increases the similarity between an economy and the households which make it up. This is one of the important questions considered in this paper.